insights on effective supply chain planning - business...

Insights on effective supply chain planning -Business, Tax and Regulatory considerationsIndia Tax Workshop 2011

Ashish NandaHarishanker Subramaniam

Jim TobinRajendra Nayak

Moderator - Hitesh Sharma

India Tax Workshop 2011

A more challenging environment

Source: Ernst & Young 2011 Global TP Survey

► In response to the growth in the number of principal structures in the past decade, tax authorities have:► Introduced specific legislation, e.g., legislation on transfers of business and IP

► Focused audit activity on restructuring

► Through the OECD, developed new guidance

► Signs of increasing sophistication of audit activity in Ernst & Young survey as authorities gain confidence

► Use of anti-abuse as well as TP legislation

► Transactions with perceived tax havens and dependent agents a focus for tax authorities

Period % (100 respondents with global or regional principals)Before 2000 23%2001–04 24%2005–10 53%

Importance of Supply Chain 01


Importance of Supply Chain

► Critical to support growth agenda

► Largest cost base that can make the company competitive or otherwise

► Could be a source of competitive advantage which is difficult for others to replicate

► Collaboration across value chain allows businesses to scale up faster

Manufacturer

Source Make Move Deliver

Supplier Warehouse Wholesaler

Sell

Plan


Key Business Considerations

► Supply Chain response needs to be linked to overall business strategy

► Understand distinct customer needs ► Typically varies by segment

► Understand product characteristics► Not all product types display the same characteristics

► Balance costs and service levels ► One cannot be at the expense of the other


Key Business Considerations

► Design overall physical infrastructure network keeping in mind total delivered costs► Regulations and taxation play a key role here

► Focus on integrating the end to end planning processes ► visibility across the value chain (internal and external)

► Define the right metrics to measure effectiveness► Enterprise view instead of functional view

► Leverage technology to ensure scalability and sustainability

Typical TESCM models02


Sale of materials

Sale of finished goods (resale - )

Deliver materials

Deliver finished goods

Conversion fee (cost+)

Contract manufacturingSuppliers

Limited risk sales company Sale of finished

goods (resale price)

Customers

Sale of finished goods (resale price)

Principal trading company

Different TESCM models: full trading principal model

Product Flow

Services

Title flow

The residual profit is attributed to the principal company after allocating fair returns to the low risk entities.


Sourcing company

Sale of goods & services

Framework agreements

Suppliers

Manufacturing company

Sale of finished goods & services

Customers

Sales company



Commission

Commission

Different TESCM models: single function business model (e.g. sourcing hub)

Product Flow

Services

Title flow

The sourcing company will earn a return on material and services. The market return remains with the sales entities.


TESCM is scalable

High

Low

Value

Low HighPotential business impact

Service company

Import/Export Co.

Supply Chain Management Co.

Sales & marketing principal

Full principal with IP

(central operating model)

Sourcing Co.

►Supplier identification►Demand aggregation►Negotiation►Contracting/Framework

agreements►Supplier management/

development

PLUS►Logistics management► Import/Export processing►Freight forwarding

PLUS►Supply chain planning► Inventory ownership and mgt►Manufacturing strategy►Research and development

(R&D) strategy

PLUS►Sales and marketing strategy►Pricing policies

PLUS►Brand and intellectual

property (IP) management

The transition to these operating models can be phased, depending on a company’s existing business and organizational model and its readiness for change.

Current state of TESCM in India03


Current state of TESCM models

► Exchange control regulations► Issues in implementing typical supply chain structures

involving:► Toller/ contract manufacturing for local sales► Toller for export sales

► Approval of Reserve Bank of India (RBI)► More “open mind” in evaluating applications in liberalized

economic environment?



► Manufacturing functions► Full value of local sales captured by local entity► Export sales may be remunerated with cost plus► Is there really a difference in operating model to

support the difference?

► Higher degree of TP risk for tax base eroding payments in the nature of royalty/ service fees

► Possibility of creating marketing intangibles in India due to increased marketing expenditure



► Sales functions► Typical LRD structure – “flash” inventory ownership, no

inventory in balance sheet, title with foreign principal► PE risk for foreign principal if it owns inventory in India► “High function” distributor entity priced as “low risk”?

► Marketing support services► Under what circumstances is Cost plus model appropriate?► How does one manage/ control PE and additional profit

attribution risk?



► Contract R&D services► What is “contract” R&D? What are the key decisions

and where are the key R&D decision-makers based?► What is the impact on a typical C+ model?

► Procurement functions► Routine sourcing activity v high value purchase function

(informational advantages, “procurement intangibles”)► Cost plus v commission on value of goods

Indirect Tax Perspective04


Insights for effective supply chain management (SCM)

► SCM often considered a logistics domain not strategic

► There is often disconnect between distribution, procurement and operations. All three communicating in real time provides a platform for effective SCM

► Indirect tax planning can be an enabler for efficient supply chain


Indirect tax enablers – cross border

► Examine sourcing from India FTA partner countries/ trading blocs for custom duty optimization

► Customs valuation vs Transfer pricing for effective distribution of margins

► Use of self assessment/ Authorised Economic Operator schemes for speed and lesser inventory

► Use of export incentive schemes for custom duty optimization


Indirect tax enablers - domestic

► Negotiated State incentives for new investments/ expansions

► Planning of supply chain network around Goods & Services Tax (GST)

Global Trends05


European principal structures

► Mature model, numerous successful implementations over the last decade

► Switzerland

► Predominant location

► Ireland, Netherlands and Belgium► Each has some significant corporate “hubs”


Business transformation in Asia

► Escalating focus of many multinational corporations

► Desire to align to European model

► Different business drivers

► Enhancing top line growth versus business synergies and cost savings

► Liquidity management

► Access to cash as big a driver as corporate income tax savings


Business Transformation in Asia: Structural Options

► Hub locations – Singapore predominant location

► Hong Kong for procurement and North Asian operations

► Potential use of branch structures

► Local country planning

► Need for trade zone and bonded logistics parks and the like to effect contract manufacturing

► Use of value-based fee approach


Business Transformation in Latin America

► Not as much region wide implementation as Europe or Asia

► Smaller market with difficult environment

► Business dynamics different than Europe

► Two larger markets, Brazil and Mexico

► Close proximity to US

► Less attractive principal company locations


Business Transformation in Latin America: Challenges similar to Asia

► High indirect taxes

► Regulatory approvals

► Difficult and uncertain controversy environment

Key Issues06


Key Drivers

► External Business Environment► Pressure on margins through input price inflation as well as pricing

pressures► Increasing service expectations from customers► Changing fiscal regulations eg. GST

► Internal Business Drivers ► Aggressive growth targets including expansion of reach to cover

new geographies/ channels ► Getting products & services to market more effectively► Enhancing the customer experience► Achieving sustainable reduction in total costs


Key Tax Drivers

► Restructuring Operations► M&A activity► New Global activity ► Business is still at a nascent stage – eg R&D, IP

Key Challenges07


Key Business Challenges

► Actual movement of activity and people essential for the success of TESCM

► People challenges► System/IT challenges


Key tax/ regulatory Challenges

► PE risk► Lower threshold in most of India’s tax treaties► Proper transfer pricing (taking into account functions/ risks of

foreign enterprise) could resolve attribution► Aggressive approach of tax authorities in asserting PE/ profit

attribution

► “Conversion” risk► Indian tax authorities likely to be well aware of OECD/ international

developments► Could seek to apply “loss of profit” theory to assert a conversion

gain


Key tax/ regulatory Challenges

► Post-restructuring TP► “Gap” between current state v future state may be sensitive and

would require proper documentation/ justification► Even if “gap” justified, expectation of higher margins in audits

► Tax incentives► Phase out of tax incentives

► Impact of Direct Taxes Code (DTC)► Introduction of APA► Need to build business purpose/ economic substance in view of

GAAR

Thank you

The discussions in this presentation are personal views of the speaker and are intended to provide only a general outline of the subjects covered. The presentation should not be regarded as comprehensive or sufficient for making decisions, nor should it be used in place of professional advice, which should always have regard for the particular commercial facts and circumstances. Accordingly, Ernst & Young Private Ltd accepts no responsibility for loss arising from any action taken or not taken by anyone by relying on this presentation.

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